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BlackRock's no longer secretive strategy to gain ground on Vanguard and Fidelity in $10.3 trillion DC market will now be tested on 120,000 employees at five US companies where it might work -- or not

BlackRock has about $1 trillion of defined contribution assets while Fidelity and Vanguard both administer multiple trillions, so the New York giant is dangling defined benefits as a way to win the defined contributions game.

Friday, October 29, 2021 – 11:54 PM by Oisin Breen
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Mark McCombe: [We're] using our aggregation power to face off against the insurance company.

Brooke's Note: The 401(k) system was launched with a wing and a prayer in 1978 as a free-enterprise experimental answer to the more socialistic systems that exist in Europe and the rest of the world. But the venture capital community turned up their noses and big companies -- with kickbacks galore -- mostly exploited its ripeness for abuse. Now finally as the DC system surpasses $10 trillion, DOL pushes back against abuse and states mandate that larger firm sponsor 401(k) plans, healthy competition abounds. They're not just competing for the assets. It's the way the 401(k) system aggregates young, low-balance investors that can be rolled over down the road. BlackRock is a late mover relative to Vanguard and Fidelity. But when you are BlackRock, you start to try harder -- investing more and taking bigger risks, like adding back in guaranteed income forgone when defined contributions replaced defined benefits.

BlackRock is finally releasing its newfangled 401(k) product default option -- the progeny of a grander master plan -- to make inroads on Vanguard and Fidelity, which dominate the $10.4-trillion defined contribution (DC) retirement market.

David Stone
David Stone: We'll likely see other manufacturers jump in.

Starting next year, its insurance-laced target date fund, LifePath Paycheck, will become the default option for 120,000 U.S. employees at five large US firms, as well as the Tennessee Valley Authority Retirement System, as they move to defined contribution plans. 

BlackRock showcased its strategy two years ago when it revealed a secret collaboration with Microsoft to develop an annuities offer that it claimed would solve an emerging American pension crisis -- a shortfall in retirement funds.  See: BlackRock's audacious Microsoft hook-up reveals pivot to annuities.

"We’re sitting between the end-individual and insurance companies, using our aggregation power to face off against the insurance company," BlackRock chief client officer Mark McCombe told the Wall Street Journal.

Essentially the product takes a standard roughly 10 basis-point BlackRock LifePath target date fund (TDF) and adds an option to buy defined benefits via annuities -- on the cheap -- as an employee nears their 60th birthday.

No meat

It's a nice idea but BlackRock doesn't really have much "aggregation power" in insurance, according to David Lau, founder and chief executive officer of Louisville, Ky., insurance marketplace vendor DPL Financial Partners.

"There isn't any meat to this claim," he says, via email.

"Other plan providers, like Principal, which is also an insurance carrier, have both the scale and annuity manufacturing capabilities to be more price competitive. Varying expenses are primarily driven by distribution costs of commissions and riders, neither of which come into play here," he explains.

If BlackRock expects the Paycheck annuities bundle provides a first-mover advantage for its bid to grow TDF and 401(k) marketshare, it's mistaken, says David Stone, CEO of Louisville, Ky.-based RIA insurance vendor, RetireOne, via email.

"It's certainly not exclusive to BlackRock, so we'll likely see other manufacturers jump in," he explains.

Sold, not bought

This engineering may have a flaw, too, according to Scott Smith an analyst at Cerulli.

David Lau
David Lau: Differentiation and revenue are the driving reasons for this move.

Annuities remain a product that is sold, not bought, because it is a mind blower for many investors.

The idea of handing over $1 million to assure $50,000 a year in lifetime income can be hard to swallow because the use of the $1 million is no longer there, he says.

BlackRock is taking the tack that annuities take-up boils down to cost and that it's good to have a superpower sitting alongside the consumer to guarantee income.

The bad news is that its Paycheck TDF jumps in price 60% from 10 basis points to 16 basis points, when investments in pooled annuities kicks in, at roughly age 59.

The average fees Vanguard and Fidelity charge for TDFs is far lower. See: After Fidelity and BlackRock target date funds attract bigger inflows, Vanguard promises to move a minor mountain next February to make its TDF prices more competitive

Of 50 BlackRock TDFs listed by Morningstar, the average fee stands at 36-basis-points, while 12 charge nine-basis-points. 

Pitch power

BlackRock has traditionally shied away from the 401(k) market, because it's historically a frail, fragmented, low-margin, thankless place to do business.

Scott Smith
The economics of handing over $1 million to assure a $50,000 a year lifetime income can put people off buying annuities, according to Scott Smith.

The New York City asset manager has $9.5 trillion under management (AUM), but only about $1 trillion is related to 401(k) and other defined contribution (DC) plans. 

Yet the market is expected to grow from $10.4-trillion to $15 trillion in the not-too-distant future, which is suddenly drawing more c-suite-level interest in its promise. See: Vestwell raises another $70-million, which it needs as it burns cash to keep up with rapid tripling of its 401(k) recordkeeping startup -- driven both by RIAs and Wall Street

The BlackRock pitch to employers boils down to giving them a way to edge employees toward defined benefits inside of their defined contribution plan -- without any big repapering of accounts.

No compete

Yet investors have reason for caution about the one-product-fits-all solution, Stone says.

"By age 65, a substantial percentage of the participants' account is sitting in a fixed income annuity with minimal growth potential," he explains.

"By combining the TDF with an annuity, the client is mostly in bonds and annuities for several decades which may not be optimal," he adds. See: T. Rowe Price takes on the risk of its target date fund retirees outliving their savings -- by jacking up equity exposure even on the glide path

Vanguard has stated it will not compete with BlackRock to sell annuities through its TDFs, according to a spokeswoman for the $7.3 trillion AUM asset manager.

She cites a November 2020 Vanguard report that labels annuities as "not a best fit for all defaulted investors."

Rule change

Plan participants using PayCheck will not pay commissions, sales loads, or distribution fees for the annuities, according to BlackRock.

Larry Fink
BlackRock CEO, Larry Fink (pictured), and Microsoft CEO, Satya Nadella set industry pulses racing in 2918.

Overall, LifePath TDFs manage $350 billion, according to BlackRock.

The inclusion of annuities in TDFs was only recently made practicable as a result of a 2019 rule change.

It reduced the burden of fee reporting, allowed small business to pool plans, and protected employers from legal liability should an insurer fail. See: IRS alleviates suffering of RIAs who use fee-based annuities.

PayCheck automatically moves 401(k) investors partially into annuities, as they age. Charlotte, N.C., insurer, Brighthouse Financial, and New York City insurer, Equitable Holdings provide the annuities. See: The BlackRock-Microsoft 'reimagining' of the 401(k) market, arrives looking more like a remix of existing third-party products.

Driving change

Like most TDFs, PayCheck funds are on glidepaths that reduce risk exposure to equities in line with a clients' age, steadily shifting investments into safer holdings, like bonds. But from age 59, LifePath automatically offers investors annuities valued at up to 30% of their 401(k) balance.

Will Trout
Will Trout: 'BlackRock appears determined to strike while the iron is hot.'

For all its challenges, BlackRock is right-on in its broad-strokes read of the market, says Will Trout, director of wealth management at Pleasanton, Calif., consultancy Javelin Strategy & Research, via email.

"Positioning these funds as 'defined benefit' is in tune with the zeitgeist," he says. "BlackRock appears determined to strike while the iron is hot.

"Annuities were not on the radar of most advisors until recently, least of all in the 401(k) space, where regulation and reputation made them an uncomfortable fit. Demand for annuity-driven TDFs was just not there," he adds..

Factors driving the changing mood include the present low-interest-rate environment, fears over the ongoing bull market, and a likely retirement savings shortfall of $3.83 trillion for Americans between age 35 and 64, according to the Employee Benefit Research Institute (EBR).

Indeed, some 41% of households fear running out of money in later life, the EBR reports.

BlackRock's pitch for LifePath aims squarely at those households.

LifePath also reduces the amount of work for investors to buy annuities, making the process mostly automatic. It also removes the psychological barrier of making them withdraw funds to put into annuities -- a shift, sources say, will increase adoption.

BlackRock hopes one, plus one, plus one equals five, according to Lau.

"This differentiation, along with the increasingly clear value of lifetime income, particularly for the typical demographics of 401(k) participants, and the additional revenue BlackRock will undoubtedly realize, are the driving reasons for this move," he says.

Mustering muscle

The combination is a far cry from the bold claims made in 2018 of a groundbreaking strategic project, initially code-named Otto, after German Chancellor Otto Von Bismarck, who revolutionized retirement saving with a national pension scheme in the 1880s.

Anne Ackerley
Anne Ackerley: Some, maybe more than others, understood what we were trying to achieve

Indeed, a Dec. 2018 secret meeting between Fink and Microsoft CEO Satya Nadella set industry pulses racing, as analysts mulled just how the two firms could work together in the 401(k) market.

Microsoft has largely been absent since then and has yet to answer what role, if any, it plays in Paycheck.

The issue for BlackRock is that its muscle in asset management doesn't necessarily apply to insurance.

In 2019, BlackRock pressed insurers to accept payment only for the spread between the yields they produced when investing buyers' cash, and the monthly payouts they make to annuity holders, the Wall Street Journal reports.

"Some, maybe more than others, understood what we were trying to achieve," BlackRock retirement group head, Anne Ackerley told the broadsheet.

State of play

BlackRock manages more than $1 trillion on behalf of 72,000 defined contribution (DC) plans, according to CEO Larry Fink. This sum accounts for roughly 10% of the $10.4 trillion in US DC assets, according to Investment Company Institute (ICI) data.

BlackRock is the fourth largest domestic TDF vendor. It trails Vanguard, which holds 36.7% marketshare, Fidelity Investments (13.3%) and T.Rowe Price (11.6%), according to Morningstar.

The TDF market is valued at roughly $2.8 trillion overall, according to Morningstar data.

BlackRock intends to launch mutual funds with an annuity component, too, according to the Wall Street Journal.

Some 66% of 401(k) plan assets are held in mutual funds, according to the ICI.


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